Winter is Coming – Warren Buffet prepares for bear market

A look at Trump-proofing an investment portfolio

This is the second in a two-part series about the election of Trump, his plans to cut the US Government by almost one third and the implications for stock markets and investors. Elon Musk has warned that “markets will tumble” and Warren Buffet has been making moves into cash for some time. Berkshire Hathaway’s third quarter earnings update shows Buffett has been selling stocks even before the election, and moving to cash and Treasury bonds. Berkshire Hathaway now owns more Treasury Bills than the Federal Reserve.

Part one of this series, outlining the possible effects of decimating government spending and other Trump policies, is here. This article looks at defensive moves that investors, especially older investors without an appetite for risk, might consider for their superannuation accounts and investment portfolios.

Here’s a breakdown of what this could mean and strategies for investments:

Trump Trades – Stock Market Surge

The immediate market response to Trump’s election was overwhelmingly positive, with record highs across the Dow, S&P 500, and Nasdaq. Tesla saw a nearly 15% jump, and sectors like small caps and bank shares experienced significant gains. Privately owned prisons were amongst the biggest winners on the promise of a crack down on crime and mass deportations.

This surge was largely fueled by optimism about tax cuts, a lighter regulatory touch, and anticipated government spending, which could drive corporate profits, benefiting stockholders in the short term.

Opportunity for Growth: Investors with exposure to U.S. stocks, especially in sectors like technology, banks, and small-cap stocks, may benefit from a rally if it continues. For older investors with diversified portfolios, these gains may help boost the value of their investments, especially if they hold index funds or sector-specific stocks that are rising in value.

Risks of Volatility: The initial surge reflects optimism, but rapid policy shifts can also bring volatility. Investors nearing retirement or those relying on their investments for income should remain cautious of short-term swings. Retirees are less likely to be concerned with picking the top of a market or squeezing out an extra percentage point here or there – they are more concerned with protection of their nest egg. Maintaining a balanced portfolio that includes defensive sectors can help mitigate some of these risks.

Defensive Stocks

Implementing a one-third reduction in government spending would have profound economic implications, including decreased aggregate demand, potential increases in unemployment, and heightened market volatility. In this context, adopting a defensive investment strategy becomes crucial to safeguard your portfolio.

Defensive stocks belong to sectors that provide essential goods and services, maintaining steady demand regardless of economic conditions. These sectors include utilities, consumer staples, and healthcare. Companies in these industries often offer consistent dividends and exhibit lower volatility. For instance, during economic downturns, consumer staples and healthcare sectors have historically shown resilience.

Big Pharma stocks might be best avoided, given Robert F. Kennedy Jr.’s ideas to Make America Healthy Again. “Legislators should cap drug prices so that companies can’t charge Americans substantially more than Europeans pay,” Kennedy wrote in the Wall Street Journal in September. Kennedy also wants to change funding for the National Institutes of Health and to “devote half of research budgets … toward preventive, alternative and holistic approaches to health.”

Utilities companies may include US fracking companies with a retail component, that is they sell gas to households, which will benefit from Trump winding back environmental regulations for clean air and water, but does not include Australian gas companies which will be impacted by the global competitor.

Dividend-Paying Stocks

Companies with a history of paying and increasing dividends can provide a steady income stream and may offer some protection against market volatility. These companies are often well-established with strong cash flows, making them more resilient during economic downturns.

Impact on Bonds and Interest Rates

Bond prices have dropped during the “Trump Trade” euphoria, and yields on U.S. Treasuries have risen as investors anticipate higher inflation and larger government deficits from Trump’s spending and tariff policies. A rising yield on the benchmark 10-year Treasury (now up to 4.48%) indicates expectations of higher interest rates.

Even before Trump’s election, Buffett was selling out of over valued shares, such as Apple, and placing the cash into short-term Treasuries. He holds a record US$288 billion of US Treasury bills, US$93 billion more than the US Federal Reserve.

Warren Buffet moves to cash — Source Yahoo

Risk of Higher Inflation: Tariffs can lead to higher consumer prices, eroding purchasing power over time. For retirees and those on fixed incomes, this means that everyday expenses could rise. Adjusting investment allocations to include assets that traditionally perform well in inflationary environments, such as commodities, could help hedge against this risk.

Lower Bond Values: Higher yields mean lower bond prices, which can impact investors with significant bond holdings in their portfolios. Those closer to retirement who rely on bonds for stability may consider short-duration bonds to reduce the impact of rising rates or look at alternative income-generating assets, such as dividend-paying stocks or inflation-linked bonds.

High-Quality Bonds: Investment-grade bonds, particularly those issued by financially stable corporations or government entities, can offer a reliable income stream with lower risk compared to equities. In times of economic uncertainty, these bonds tend to be more stable. However, it’s important to note that significant cuts in government spending could impact the creditworthiness of government bonds, so focusing on high-quality corporate bonds might be prudent.

Cash and Cash Equivalents

Maintaining liquidity through cash or cash equivalents, such as money market funds, can be advantageous. This strategy allows you to quickly capitalize on investment opportunities that may arise during market downturns and provides a buffer against volatility.

Be mindful that high inflation eats the spending power of cash. Bear markets are a wake up call to live within our means, even frugally to preserve our cash reserves.

Currency Fluctuations

The rally in the dollar and simultaneous drop in the Mexican peso reflect investors’ faith in Trump’s growth-oriented policies but also highlight uncertainties in international trade and tariffs.

Stronger Dollar: A stronger dollar may increase the value of U.S.-based investments for international investors. However, retirees with foreign holdings or plans to travel abroad may see reduced purchasing power internationally, particularly in countries like Mexico where the peso has dropped.

Precious Metals

Assets like gold and silver are traditionally viewed as safe havens during economic instability. They can serve as a hedge against inflation and currency fluctuations, which may arise from significant fiscal policy changes. Allocating a portion of your portfolio to precious metals can provide diversification and potential protection against economic downturns.

Real Estate Investment Trusts (REITs)

REITs can offer exposure to real estate assets without the need to directly own property. Certain types of REITs, particularly those focused on essential services like healthcare facilities or residential properties, may provide stable income and act as a hedge against inflation.

After years of record gains in real estate, banks have suggested that in 2025, demand will still be greater than supply, but the market will grow less quickly. NAB says 6-8% gain is likely.

Diversified Mutual Funds or ETFs

Investing in funds that focus on defensive sectors or have a conservative allocation can provide diversification and reduce risk. These funds are managed by professionals who adjust holdings based on market conditions, which can be beneficial during times of economic uncertainty.

Bitcoin and Alternative Investments

Bitcoin’s record high reflects a broader trend of investors looking to hedge against potential inflation and currency volatility.

Opportunity in Digital and Alternative Assets: For those willing to diversify beyond traditional assets, Bitcoin and other digital currencies present a potential hedge against inflation and currency risks. However, due to the high volatility of cryptocurrencies, this may be more suitable for investors with higher risk tolerance.

We are sceptical of Digital Assets: “After years of studying it, I believe that cryptocurrency is an inherently right-wing, hyper-capitalistic technology built primarily to amplify the wealth of its proponents through a combination of tax avoidance, diminished regulatory oversight & artificially enforced scarcity,” said the founder of Dogecoin, Jackson Palmer. He said that Dogecoin started as a joke and will continue to be a joke and wishes the worst for cryptocurrencies.

Strategic Adjustments for Superannuation and Long-Term Investors

With the “Trump trade” trends in mind, long-term investors might consider rebalancing to protect against both inflation risks and potential future market volatility.

Diversification: Maintain a balanced portfolio with a mix of stocks, bonds, and inflation-resistant assets. This can help weather fluctuations in interest rates, inflation, and market volatility.

Focus on Quality Dividends: For income stability, dividend-paying stocks in resilient sectors (like utilities, consumer staples, and healthcare) can offer some protection against inflation while providing steady income.

Keep Cash Reserves: Higher market volatility means opportunities may arise to buy quality assets at lower prices. Cash reserves can help take advantage of such opportunities and provide flexibility in uncertain economic climates.

While Trump’s economic policies bring potential for growth, they also come with inflation and volatility risks. A carefully diversified, inflation-hedged strategy can help investors, especially those approaching or in retirement, navigate this new economic landscape.

Considerations for Australian Investors

It’s important to consider the impact of U.S. fiscal policies on the Australian economy and markets. Any tariff war between the US and China will affect Australia, their largest trading partner. While the direct effects may be less pronounced, global economic interconnectedness means that significant policy changes in the U.S. can influence Australian markets. Maintaining a diversified portfolio that includes international exposure can help mitigate region-specific risks.

Final Thoughts

While defensive investments can provide stability, it’s essential to align your investment choices with your individual financial goals, risk tolerance, and investment horizon. Consulting with a financial advisor can help tailor a strategy that suits your specific needs, especially in light of potential economic shifts resulting from substantial government spending cuts.

Add to the chaotic mix, Trump has stated he intends to swiftly end the conflict in Ukraine, though he hasn’t said how. He has consistently opposed U.S. military aid to Ukraine and insists that Taiwan pay for its defence. Trump’s new foreign policy might embolden Russia and China, who may become further motivated by an unwanted tariff dispute, and will make traditional allies such as Ukraine, Taiwan, and NATO, very worried. Trump doesn’t like wars – who does – so he may not want to involve the USA in any overseas wars. This added layer adds to the complexity of investing in BRICS EFTs.

This is not investment advice, merely our research into what we could do to prevent erosion of our own portfolio in the event of a chaotic economy and stock market under Trump. Always seek qualified and personalised financial advice.

UrbanObserver

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